Why Is Amihind's Liquidity Measure Priced

Price Impact or Trading Volume: Why is the Amihud (2002) Illiquidity Measure Priced?
XIAOXIA LOU
TAO SHU *
September 2014
* Lou is at the Alfred Lerner College of Business, University of Delaware. Email: lous@udel.edu. Shu is at the Terry
College of Business, University of Georgia, and is visiting at the HKUST Business School. Email: taoshu@terry.uga.edu.
We appreciate the helpful comments from Yakov Amihud, Michael Brennan, Kalok Chan, Darwin Choi, Sudipto
Dasgupta, Amit Goyal, Ronnie Sadka, Johan Sulaeman, Liyan Yang, Tong Yao, Chu Zhang, and the participants at the
2014 China International Conference of Finance, HKUST, University of Hong Kong, Chinese University of Hong
Kong, City University of Hong Kong, University of South Carolina, and Zhejiang University.
Price Impact or Trading Volume: Why is the Amihud (2002) Illiquidity Measure Priced?
September 2014
The return premium associated with the widely used Amihud (2002) illiquidity measure is generally
considered liquidity premium that compensates for price impact or transaction cost. We find that the
pricing of the Amihud measure is not attributable to the construction of return-to-volume ratio that
is intended to capture price impact, but entirely due to the trading volume component, the pricing of
which has been explained in various ways unrelated to liquidity. Additionally, using the high-
frequency measure of price impact, we find little evidence that stocks with greater price impact earn
higher expected return as predicted by conventional theory.

The illiquidity measure developed by Amihud (2002) is one of the most widely used liquidity proxies
in the finance literature. During 2009-2013, over one hundred papers published in the Journal of
Finance, the Journal of Financial Economics, and the Review of Financial Studies use the Amihud
(2002) measure for their empirical analyses. 1 The Amihud measure has two advantages over many
other liquidity measures. First, the Amihud measure has a simple construction that uses the absolute
value of the daily return-to-volume ratio to capture price impact. Second, the measure has a strong
positive relation to expected stock return (see, e.g., Amihud (2002), Chordia, Huh, and
Subrahmanyam (2009)). The positive return premium of the Amihud measure is generally
considered to be a liquidity premium that compensates for price impact or transaction cost.
Despite the strong empirical evidence, it is not clear ex ante that the Amihud measure would
be priced because of the compensation for price impact. While the Amihud measure intends to
capture price impact through the ratio of absolute return to trading volume, this construct is not
precisely mapped to theory. As discussed in Chordia, Huh, and Subrahmanyam (2009), Although
many microstructure theories have been developed, extant economic models are unable to map precisely onto the
Amihud (2002) construct of the ratio of absolute return to volume. (p. 3630).
Why is the Amihud (2002) illiquidity measure priced despite its lack of full theoretical
support? Is it because the construct of the daily return-to-volume ratio captures price impact? This is
an important research question for two reasons. First, because the Amihud illiquidity measure is
widely used by researchers to examine liquidity premium, construct liquidity factor, or control for
liquidity, it is necessary for us to know whether the pricing of the Amihud measure is indeed due to
price impact (stock liquidity) or other reason(s). 2 Second, the answer to this question also has
1
We count only published papers and exclude any forthcoming papers.
2
Besides the Amihud (2002) measure, the finance literature has also proposed many other liquidity measures (see
Holden, Jacobsen, and Subrahmanyam (2014) for a survey).
1
important general implications for how we measure liquidity and how liquidity affects security prices.
For example, the examination of this question can provide evidence on whether investors, as
predicted by theory, demand compensation for the price-impact component of the transaction cost.
In this paper, we examine the pricing of the Amihud (2002) measure from a new
perspective. Our study is motivated by the close connection between the Amihud measure and
trading volume, which is illustrated by the construction of the measure:
Diy
1 | rit |
Aiy =
Diy
Dvol
t =1
, (1)
it
where Aiy is the Amihud measure of firm i estimated in year y; rit and Dvolit are daily return and daily
dollar trading volume for stock i on day t; Diy is the number of days with available ratio in year y. 3
Everything else equal, higher trading volume will lead to a lower Amihud illiquidity measure. This
linkage is particularly strong because the trading volume component has a much greater cross-
sectional variation than the stock return component. For example, the 75th percentile cutoff of the
trading volume component is over 100 times its 25th percentile cutoff, but the 75th percentile cutoff
of the return component is just two times its 25th percentile cutoff. 4
Many studies have documented that stocks with higher trading volume earn lower returns
subsequently, although they offer vastly different explanations (e.g., Brennan, Chordia, and
Subrahmanyam (1998), Lee and Swaminathan (2000)). We therefore examine whether the pricing of
the Amihud measure is due to its association with trading volume. Our sample includes
NYSE/AMEX-listed companies from 1964 to 2012, and we first confirm the previously
documented strong relation between the Amihud (2002) illiquidity measure and expected return.
3
Some studies further adjust the Amihud measure for inflation. The approaches of our analyses are such that we need
not to do so. For sorting analysis, we sort stocks into portfolios every month. For the Fama-MacBeth regression analysis
that uses the Amihud measures as independent variables, we follow the literature (e.g., Brennan, Huh, and
Subrahmanyam (2013)) and transform the measures into natural logs, which makes the scaling irrelevant.
4
The corresponding statistics are presented in Table I and discussed in Section I.B.
2
Stocks in the top quintile portfolio of the Amihud measure outperform those in the bottom quintile
portfolio by 0.80 percent (t-stat 3.38) per month in raw return and 0.43 percent (t-stat 2.83) in four-
factor alpha that controls for the three Fama-French factors and the momentum factor.
To focus on the trading volume component of the Amihud measure, we construct a
constant version of the Amihud measure, A_C, by replacing absolute return in the Amihud
measure with one:
Diy
1 1
A _ C iy =
Diy
Dvol
t =1
, (2)
it
where A_Ciy is the constant measure of firm i estimated in year y, and all the other variables are as
defined in equation (1). We find that the A_C measure has a correlation of 0.94 with the original
Amihud measure. This result suggests that the variation in the Amihud illiquidity measure is likely
driven in large part by the variation in the trading volume component. We further find that the A_C
measure is priced similarly to the Amihud (2002) measure. Stocks in the top quintile of A_C
outperform those in the bottom quintile by 0.83 percent (t-stat 3.95) per month in raw return and
0.50 percent (t-stat 3.50) in four-factor alpha. These return spreads are very similar to those using
the Amihud illiquidity measure.
Next, we test whether it is the trading volume component that drives the pricing of the
Amihud (2002) measure. For the first approach, we construct a residual Amihud measure as the
residual from cross-sectional regressions of the A measure on the A_C measure. The residual
measure is therefore the component of the Amihud measure that is orthogonal to the constant
measure. 5 We find that the residual Amihud measure no longer leads to a positive return premium.
In fact, stocks in the top quintile of the residual measure underperform those in the bottom quintile by
5
We do not use two-dimensional sorting because the very high correlation between the A and A_C measures leads to
insufficient numbers of stocks in the two-dimensional portfolios.
3
0.34 percent (t-stat 2.12) per month in raw return and 0.20 percent (t-stat 1.40) in four-factor alpha.
These results indicate that the pricing of the Amihud measure is explained by its trading volume
component but not by its construct of return-to-volume ratio.
For the second approach, we construct a monthly factor, IMLA_C (illiquid minus liquid), as
the return of the top tercile portfolio of A_C minus that of the bottom tercile portfolio. 6 We then
examine the return spread associated with the Amihud measure but report the IMLA_C alpha
calculated by regressing return spread on the IMLA_C factor, and the five-factor alpha calculated by
regressing return spread on the IMLA_C factor in addition to the four-factor model. The spread
between the top and the bottom quintiles of the A measure is -0.02 percent (t-stat -0.46) per month
in terms of IMLA_C alpha, and -0.03 percent (t-stat -0.74) in terms of five-factor alpha. Therefore, the
results of the factor approach are consistent with those of the residual approach in that the trading
volume component drives the pricing of the Amihud (2002) measure.
We also conduct a multivariate analysis by estimating the firm-level Fama-MacBeth (1973)
regressions of monthly stock returns on the Amihud measure controlling for size, book-to-market
ratio, momentum, and short-term return reversal. The results of the regression analyses are
consistent with the sorting analyses, in that the coefficient on the constant measure is significantly
positive but the coefficient on the residual Amihud measure is either insignificant or significantly
negative. Our results are robust when we use the turnover-based Amihud measure proposed by
Brennan, Huh, and Subrahmanyam (2013) that is constructed using the absolute return-to-turnover
ratio instead of the absolute return-to-volume ratio, or construct the Amihud measures monthly
instead of annually. The results are also robust to using the sample of NASDAQ stocks, using the
sub-periods, and controlling for idiosyncratic return volatility.
6
The results are similar when we construct the factor by sorting stocks into two or four groups instead of three groups.
4
Brennan, Huh, and Subrahmanyam (2013) decompose the Amihud (2002) measure into the
turnover-based Amihud measure and firm size (market capitalization) and examine the relations of
these two metrics with expected return separately. We extend their analysis and decompose the
Amihud (2002) measure further into the absolute return component, the turnover (volume)
component, and the firm size component. We estimate regressions of stock returns on these
components. The coefficient on the turnover component is significantly positive, indicating that the
trading volume component contributes to the pricing of the Amihud illiquidity measure. By contrast,
the coefficient on the absolute return component is either insignificant or significantly negative in
the regressions.
To further examine the role of price impact in the pricing of the Amihud measure, we follow
the literature and construct a high-frequency price impact benchmark (Hasbrouck (2009), Goyenko,
Holden, and Trzcinka (2009)). The price impact benchmark is estimated as the slope coefficient of
five-minute stock return regressed on signed square-rooted five-minute trading volume for a firm-
year. We construct the measure for NYSE/AMEX stocks from 1983 to 2012 using the ISSM and
TAQ transaction data.
Previous studies document a strong positive relation between the Amihud (2002) measure
and the high-frequency price impact benchmark (Hasbrouck (2009), Goyenko, Holden, and
Trzcinka (2009)). We find that this relation is also mainly due to the trading volume component of
the Amihud measure rather than the construct of return-to-volume ratio. Additionally, the high-
frequency price impact measure has no significant relation with expected return, nor does it explain
the pricing of the trading volume component of the Amihud measure.
We further examine the return premium of the constant Amihud (2002) measure (the
trading volume component) in the earnings announcement period and non-earnings-announcement
period separately. If the pricing of the trading volume component is liquidity premium, then we
5
expect such premium to be relatively evenly distributed across the trading days. If, as suggested by
the existing literature, the pricing of trading volume is due to high volume stocks initially being
overpriced and therefore earning lower returns subsequently, then the return premium may
concentrate in the earnings announcement window, as the release of earnings information helps
correct mispricing (e.g., La Porta, Lakonishok, Shleifer, and Vishny (1997)). We examine stock
returns of sample firms in the months of earnings announcements, and find that the return premium
of the trading volume component is large and significant in the three-day earnings announcement
window but much smaller and insignificant for the remaining period of the month. This result
suggests that the pricing of the trading volume component is unlikely to be just liquidity premium
unless investors demand liquidity premium only in the earnings announcement window.
Our paper makes three contributions to the finance literature. First, our findings provide a
new understanding of why the widely used Amihud (2002) measure is priced. While the pricing of
the Amihud (2002) measure is generally considered to result from price impact, we find that the
pricing of the Amihud measure is explained by its association with trading volume. This finding is
nontrivial because financial researchers have offered various explanations as to why trading volume
is priced. For example, Lee and Swaminathan (2000) attribute the pricing of volume to investors
value-investing as the volume premium is most pronounced among winner and loser stocks.
Researchers have also related volume or the pricing of volume to investor disagreement (e.g., Harris
and Raviv (1993), Blume, Easley, and OHara (1994)), stock visibility (Gervais, Kaniel, and
Mingelgrin (2001)), information uncertainty (Jiang, Lee, and Zhang (2004), Barinov (2014)), and
investor sentiment (Baker and Wurgler (2006)). 7 Since the pricing of trading volume could be
7
Some studies also document a weak or even negative relation between volume and stock liquidity (Foster and
Viswanathan (1993), Lee, Mucklow, and Ready (1993), and Johnson (2008)). Bekaert, Harvey, and Lundblad (2007) show
that volume is not strongly related to other liquidity measures in international markets. As another example, trading
volume can be high when the markets are illiquid as seen in the flash crash of 2010.
6
associated with various non-liquidity factors, our findings call for caution in the use of the Amihud
measure to examine liquidity premium, control for liquidity in the tests of asset pricing, or construct
liquidity factor. On the other hand, our results show that the Amihud (2002) measure does well
capturing price impact via its trading volume component.
Our findings also have general implications for the measurement of stock liquidity.
Motivated by the rapidly growing literature of stock liquidity, a number of studies have proposed
low-frequency liquidity proxies using daily stock market data, and the validity of these measures is
usually assessed by whether these measures are correlated with expected returns. Our findings echo
the argument of Chordia, Huh, and Subrahmanyam (2009) that it is important to develop liquidity
measures based on explicit theoretical models rather than on empirical evidence about their
correlations with expected returns.
Finally, the findings in this paper also help us understand how liquidity affects security
prices. The novel model of Amihud and Mendelson (1986) shows that investors demand higher
returns for the securities associated with higher transaction costs. Since then, a number of empirical
studies have set out to examine whether the two major components of transaction cost, spread and
price impact, affect asset returns. Since the Amihud illiquidity measure is constructed to capture price
impact, its pricing is generally considered strong evidence that investors demand a return premium
to compensate for price impact or transaction cost. Our findings, however, show that the pricing of
the Amihud measure is not due to price impact. Moreover, the high-frequency price impact
benchmark is not priced, either. These findings suggest that price impact does not seem to be
associated with a return premium, which is a puzzling result that calls for more analysis.
The outline of our paper is as follows. Section I describes the construction of the liquidity
measures and the sample. Section II examines the relations between the components of Amihud
illiquidity measures and expected return. Section III conducts robustness tests. Section IV analyzes
7
the relation between the Amihud illiquidity measure and a high-frequency price impact measure, and
Section V concludes.
I. Measure Construction and Sample Selection
A. Measure Construction.
The measures used in this paper are constructed as below:
A: the Amihud (2002) measure, defined by equation (1).
A_C: the constant Amihud measure corresponding to A, defined by equation (2).
AT: the turnover-based Amihud illiquidity measure from Brennan, Huh, and
Subrahmanyam (2013)
Diy
1 | rit |
ATiy =
Diy
TO
t =1
, (3)
it
where ATiy is the turnover-based Amihud measure for stock i in estimation year y, and
TOit is the turnover of stock i on day t, calculated as daily share volume divided by total
shares outstanding. The other variables are as defined in equation (1).
AT_C: the constant turnover-based Amihud measure corresponding to AT
Diy
1 1
AT _ C iy =
Diy
TO
t =1
, (4)
it
which differs from equation (3) only in replacing the numerator of the ratio |rit| with
a constant 1.
|Ret|: return component of the Amihud measure, calculated as the annual average of
daily absolute returns over the estimation year.
We follow the literature and winsorize all the above measures at the 1 and 99 percentage
points in each cross-section to control for outliers. In addition to the turnover-based Amihud
8
measure, we also examine the square-root version of the Amihud measure that is constructed as
the Amihud (2002) measure but takes the square root of the daily absolute return-to-volume ratio.
Hasbrouck (2009) proposes the square-root measure to control for skewness. We construct the
constant measure corresponding to the square-root Amihud measure by replacing the
numerator with a constant one, and repeat the tests in this paper. The results are not reported for
brevity, but all our findings in this paper hold for the square-root version of the Amihud measure
as well.
B. Sample Construction
Our sample stocks include ordinary common shares (share codes 10 and 11) listed on the NYSE and
the AMEX. 8 We exclude NASDAQ stocks from our main analysis because the NASDAQ trading
volume is inflated relative to the NYSE/AMEX trading volume because of different trading
mechanisms. 9 We obtain the data on stock price, return, trading volume, and shares outstanding
from the CRSP daily file and construct annual Amihud measures from 1963 to 2011. We require a
stock to have at least 100 days of valid return and volume data to compute the ratios in the
estimation year. Since we match the Amihud measures estimated in year y-1 to monthly stock returns
in year y, the period of our return analysis is from 1964 to 2012.
Panel A of Table 1 presents summary statistics of the Amihud illiquidity measure and its
various components for the 98,244 firm-years in our sample. Panel A also presents summary
statistics of the firm size and book-to-market ratio. Firm size is the market capitalization at the end
of the estimation year. Book-to-market ratio is the ratio of the book value of equity to the market
value of equity, where the book value of equity is defined as stockholders equity plus balance-sheet
8
A firm-year is dropped from the sample if the firms stock is traded in a non-NYSE/AMEX exchange on any day of
the year.
9
We nevertheless conduct robustness tests using the NASDAQ sample and report the results in Section III.
9
deferred taxes and investment tax credit, minus the book value of preferred stock. 10 Panel A shows
that the trading volume component of the Amihud measure is much more volatile than the return
component. The standard deviation of A_C is almost three times its mean, but the standard
deviation of |ret| is only half of the mean. Additionally, the 75th percentile cutoff of A_C is over 100
times its 25th percentile cutoff, but the 75th percentile cutoff of |ret| is only twice as much its 25th
percentile cutoff. This contrast is also true for the turnover-based Amihud measure. These results
suggest that the variation of the trading volume component can account for the majority of the
variation in the Amihud illiquidity measure.
For robustness, we also examine monthly measures for the sample firms from November
1963 to October 2012. 11 The monthly measures are constructed like annual measures but use
monthly average of daily metrics (we require a stock to have at least 10 days with valid return and
volume data to compute the ratios in the estimation month). Panel B of Table 1 reports summary
statistics of the monthly measures for the 1,197,252 firm-months in our sample, where the patterns
are very similar to those for the annual measures.
Table 2 presents correlations among the various versions of the Amihud measure. We first
calculate cross-sectional correlation coefficients among the variables in each year and then report the
time-series averages. Panel A shows that the Amihud illiquidity measures are highly correlated with
the corresponding constant measures constructed with only the trading volume components.
10
Balance-sheet deferred taxes is the Compustat item TXDB, and investment tax credit is item ITCB. We use
redemption value (PSTKRV), liquidation value (PSTKL), or par value (PSTK), in that order, for the book value of
preferred stock. Stockholders equity is what is reported by Moodys (see Davis, Fama, and French (2000)), or
Compustat (SEQ). If neither is available, we then use the book value of common equity (CEQ) plus the book value of
preferred stock. If common equity is not available, stockholders equity is then defined as the book value of assets (AT)
minus total liabilities (LT). We use the book value of the fiscal year ending in calendar year y and market value at the end
of year y to calculate book-to-market ratio and match it to stock returns in the one-year period from July of y+1 to June
of year y+2. We winsorize the book-to-market ratio in each month at the 0.5% and 99.5% level to reduce the influences
of data error and extreme observations.
11
Since we follow the literature and skip a month between the estimation period of monthly measure and the period of
return measurement, the monthly Amihud measures are matched to the monthly returns from January 1964 to
December 2012, which is in line with the analyses using annual measures.
10
Specifically, the correlations are 0.94 between A and A_C, and 0.78 between AT and AT_C. These
results confirm that the trading volume component alone accounts for a vast majority of the
variations in the Amihud illiquidity measures. In contrast, the correlations between the return
components and the Amihud measures are only half as strong. These results also hold in Panel B of
Table 2, which reports the correlations for monthly measures.
II. Does the Trading Volume Component Explain the Pricing of the Amihud Illiquidity
Measure?
In this section, we first motivate our analyses by examining the pricing of the components of the
Amihud measure separately. Next, we formally test whether the pricing of the Amihud measure is
attributable to its association with trading volume.
A. Decomposition of the Amihud (2002) Measure
To motivate our analyses, we first decompose the Amihud (2002) measure and examine the pricing
of its components separately. Brennan, Huh, and Subrahmanyam (2013) decompose the Amihud
(2002) measure into the turnover-based Amihud measure and firm size (market capitalization) as in
equation (5) below. They examine these two metrics using multiple regressions of stock return, and
suggest that the turnover-based Amihud measure clarifies the effect of illiquidity on stock returns by
removing the impact of firm size. Since our focus is the trading volume component of the Amihud
measure, we decompose the Amihud (2002) measure into the trading volume component (the A_C
measure) and the absolute return component, as in equation (6). We decompose the Amihud (2002)
measure further into the absolute return component, the turnover component (the AT_C measure),
and the firm size component as in equation (7):
| ret | | ret | 1
ln( A) = ln( ) = ln( ) = ln( AT ) ln( S ) (5)
Dvol TO S
11
| ret | 1
ln( A) = ln( ) = ln(| ret |) + ln( ) = ln(| ret |) + ln( A _ C ) (6)
Dvol Dvol
| ret | 1 1
ln( A) = ln( ) = ln(| ret | ) = ln(| ret |) + ln( AT _ C ) ln( S ) (7)
Dvol TO S
where S is market capitalization, and the remaining variables are as previously defined. We compute
the natural logs of the annual averages of various daily components: |ret|, A_C, AT, AT_C, and S,
and estimate regressions of stock returns on these components.
For the return regressions, we follow Brennan, Chordia, and Subrahmanyam (1998) and use
the Fama-French three-factor adjusted return (henceforth FF3-adjusted return) as dependent
variable. FF3-adjusted return of firm i in month t is defined as:
ritff 3 = (rit r ft ) ( itMKT MKTt + itSMB SMBt + itHML HMLt ) (8)
where the three factor loadings, itMKT , itSMB , and itHML are estimated for each firm using the
monthly excess returns and Fama-French three factors in the previous sixty-month window from t-
60 to t-1. 12 We require at least 24 observations in the estimation of factor loadings. We perform
cross-sectional regressions and report the time-series averages of coefficients and the associated t-
statistics using the Newey-West (1987) standard errors with six lags. We also include the usual
control variables such as size, book-to-market ratio, and past stock returns that control for
momentum and short-term price reversal.
Models (1) of Table 3 regresses returns on ln(AT) and ln(S) as in equation (5). Our results
are consistent with Brennan, Huh, and Subrahmanyam (2013) in that the turnover-based Amihud
measure is priced. Model (2) decomposes ln(A) into the volume component (ln(A_C)) and the
absolute return component (ln(|ret|)) as in equation (6). The coefficient on ln(A_C) is positive and
significant at the 0.01 level but the coefficient on ln(|ret|) is significantly negative. Model (3)
12
We thank Kenneth French for making the data available in his data library.
12
presents the full decomposition of the Amihud (2002) measure into ln(AT_C), ln(|ret|), and ln(S) as
in equation (7). While the coefficient on ln(AT_C) is significantly positive at the 0.01 level, ln(S) has
a significantly negative coefficient, and the coefficient on ln(|ret|) is negative and marginally
insignificant. Overall, the results in Table 3 suggest that the trading volume component of the
Amihud measure is positively related to expected return but the absolute return component is not.
In the following sections, we will formally test whether the pricing of the Amihud measure is due to
its association with trading volume.
B. Sorting Analysis
We sort stocks at the beginning of each month from 1964 to 2012 into quintiles based on their
annual Amihud measures from the prior calendar year. We then calculate the equal-weighted returns
of these portfolios each month, and report time-series averages of the portfolio returns. We also
report the return spread between the top and bottom quintiles as well as the associated t-statistics
calculated using Newey-West (1987) standard errors with six lags. In addition to raw returns, we also
report the corresponding four-factor alphas calculated using the three Fama-French factors (MKT,
SMB, HML) and the momentum factor (UMD).
In Panel A of Table 4, we first present the sorting analysis for the Amihud (2002) measure
(A). The raw return is increasing in the A measure, with the spread between the extreme quintiles
being 0.80 percent per month. This spread is not only economically significant but also statistically
significant at the standard level (t-stat 3.38). The four-factor alpha is 0.43 percent (t-stat 2.83) per
month, which translates to an annual profit of 5.16 percent. These results show that, consistent with
the existing literature, the Amihud (2002) measure is strongly related to expected returns.
When we sort stocks by the constant measure, A_C, the return spread between the top
and the bottom quintile portfolios is almost the same as that found for the Amihud measure. The
spread is 0.83 percent (t-stat 3.95) per month in raw return and 0.50 percent (t-stat 3.50) in four-
13
factor alpha. These results indicate that excluding the return component has no significant impact
on the pricing of the Amihud measure.
Next, we use a residual approach to examine whether the A measure is still priced after
controlling for the A_C measure. We estimate monthly cross-sectional regressions of the A measure
on A_C, and obtain the residuals as the residual A measure. The residual measure therefore
represents the variation in the Amihud (2002) measure that is not due to A_C. We sort stocks based
on the residual measures and examine whether there is any return spread between stock portfolios
with high and low residual measures. The results show that a higher residual Amihud measure does
not lead to higher expected return. As a matter of fact, the return spread between the top and the
bottom quintiles of the residual measure is significantly negative for raw returns (-0.34 percent, t-stat
-2.12) and insignificantly negative for four-factor alpha (-0.20 percent, t-stat -1.40). This result also
suggests that the pricing power of the Amihud (2002) measure comes entirely from the trading
volume component.
We further examine AT, the turnover-based Amihud measure, in a similar fashion. Panel B
of Table 4 shows that, consistent with Brennan, Huh, and Subrahmanyam (2013), AT has a
significantly positive relation with expected stock return. In the meantime, the corresponding
constant measure AT_C is priced similarly to the AT measure. We then construct a residual AT
measure as residuals from monthly cross-sectional regressions of AT on AT_C. When we sort
stocks on the residual AT measure, the difference in raw return between the highest and the lowest
quintiles is much smaller than using AT, and is in fact only statistically significant at the 10% level.
The corresponding difference in four-factor alpha is no longer significant (0.14 percent, t-stat 0.74).
As a robustness check, we repeat the sorting analysis using the monthly Amihud measures.
At the beginning of each month t from 1964 to 2012, stocks are sorted into quintile portfolios
according to these measures estimated in month t-2. We follow the literature and skip one month
14
before return measurement to control for microstructure effects. Panel A of Table 5 shows that the
results using monthly measures are similar to those in Table 4. Specifically, sorting on either A or
A_C generates significant return spreads, but after we remove the variation in A that is due to A_C,
we do not find a significant relation between the residual A measure and expected stock return.
Panel B of Table 5 is similar to Panel A except that it examines the turnover-based Amihud
measure. We also find results similar to those using annual measures in Table 4. To summarize, the
results of the residual analyses indicate that the pricing of the Amihud illiquidity measure is
explained entirely by its trading volume component.
C. Factor Analysis
In addition to the residual approach, we make use of factor returns to examine whether the pricing
of the Amihud (2002) measure is explained by its trading volume component. We first construct a
monthly factor based on the constant Amihud measure, A_C. For each month from 1964 to
2012, we sort stocks into terciles according to the constant measure A_C estimated in the
previous calendar year. 13 We then calculate the monthly factor return IMLA_C as the equal-weighted
return of the top A_C tercile minus that of the bottom A_C tercile.
We then repeat the sorting analysis of the Amihud (2002) measure in Table 4 but report the
one-factor alpha calculated using the IMLA_C (illiquid minus liquid) factor, and the five-factor
alpha calculated using the IMLA_C factor, the three Fama-French factors, and the momentum factor
(UMD). This approach is in the same spirit as using the SMB factor, for example, to examine if the
return to a portfolio or a strategy can be attributed to the size effect. Panel A of Table 6 shows that
the spread in one-factor alpha between the top and the bottom quintiles of the Amihud (2002)
measure is a very small -0.02 percent (t-stat -0.46). This spread is in stark contrast with the 0.80
13
The results are similar when we construct factor returns by sorting stocks into two or four portfolios instead of three
portfolios.
15
percent (t-stat 3.38) spread of raw return in Table 4. Similarly, the spread in five-factor alpha is an
insignificant -0.03 percent (t-stat -0.74), much smaller than the 0.43 percent (t-stat 2.83) spread in
four-factor alpha in Table 4. These results suggest that the pricing of the Amihud (2002) measure is
explained by the IMLA_C factor.
We use the same approach to construct factor return IMLAT_C using the constant measure
AT_C. Panel A of Table 6 presents the corresponding one- and five-factor alphas of portfolios
sorted on the AT measure. The results in Table 4 show that the AT measure is associated with large
and significant spreads in raw returns and four-factor alphas. In contrast, Panel A of Table 6 shows
that the spreads in the corresponding one-factor and five-factor alphas become very small and
insignificant. For robustness, we repeat the factor analysis for monthly measures in Panel B of Table
6, where the results are similar to those using the annual measures. Overall, the results in Table 6
confirm the findings of the residual approach that the pricing of the Amihud measure is due to its
trading volume component.
D. Regression Analysis
In addition to the portfolio sorting approach, we use multiple Fama-MacBeth (1973) regressions to
examine the pricing of the Amihud (2002) measure. We perform cross-sectional regressions of
returns on various versions of the Amihud measure, and report the time-series averages of
coefficients and the associated t-statistics using the Newey-West (1987) standard errors with six lags.
To alleviate the impact of extreme values, we follow the literature (e.g., Brennan, Huh, and
Subrahmanyam (2013)) and take natural logs of the Amihud measure and its components. We also
include the usual control variables such as size, book-to-market ratio, and past stock returns that
control for momentum and short-term price reversal. We follow Brennan, Chordia, and
Subrahmanyam (1998) and estimate the regressions using the FF3-adjusted return as discussed in
Section II.A,.
16
In the left panel of Table 7, we regress FF3-adjusted return on the logarithms of the Amihud
(2002) measure, ln(A), and its corresponding constant measure, ln(A_C), in Models (1) and (2),
respectively. We also control for firm size, book-to-market ratios, momentum, and lagged monthly
returns (short-term reversal). The coefficient on ln(A) is significantly positive in Model (1),
confirming the positive return premium associated with the Amihud (2002) measure in Table 4. The
coefficient on the constant Amihud measure (ln(A_C)) is also significantly positive in Model (2),
indicating that this measure also leads to a return premium. In Model (3), we regress returns on
ln(A_C) and the residual ln(A) measure, which is the residual from the monthly cross-sectional
regressions of ln(A) on ln(A_C). The coefficient on ln(A_C) continues to be significantly positive,
but that for the residual ln(A) is insignificantly negative. These results are consistent with the sorting
analyses that the pricing of the Amihud measure is due to its trading volume component.
We observe a significantly positive coefficient on firm size, a finding similar to that reported
in Brennan, Huh, and Subrahmanyam (2013). This positive coefficient does not mean that larger
firms have higher returns, because firm size is also a part of the A or A_C measure. To illustrate this
point, the coefficients on firm size become insignificant in Models (4) to (6) where the independent
variable is the turnover-based Amihud measure that excludes the firm-size component. Additionally,
the coefficient is significantly negative for the one-month lagged return but significantly positive for
intermediate-term returns, reflecting a short-term return reversal and intermediate-term momentum.
The right panel of Table 7 reports the results for the turnover-based Amihud measure
(ln(AT)), the constant turnover-based Amihud measures (ln(AT_C)), and the residual ln(AT)
measure obtained by regressing ln(AT) on ln(AT_C) each month. In these regressions, ln(AT) and
ln(AT_C) have significantly positive coefficients when they enter the regressions separately. When
both ln(AT_C) and the residual ln(AT) are included in the regression, the coefficient on ln(AT_C) is
positive and significant at the 0.01 level, but that on the residual ln(AT) is insignificantly negative.
17
In sum, the results in Table 7 show that both the original Amihud (2012) measure and the
turnover-based Amihud (2002) measure are priced. However, when we keep only the trading
volume components in these ratios, the resulting constant measures are also priced. The original
or the turnover-based Amihud (2012) measure is no longer priced after we remove the variation due
to its trading volume component. These results suggest that the volume component is the principle
driving force for the pricing of the Amihud measure.
III. Robustness Tests
A. Robustness Tests Using Monthly Measures
We repeat the Fama-MacBeth regressions using monthly Amihud measures instead of annual
measures and present the results in Panel A of Table 8. Specifically, we now regress returns of
month t on monthly Amihud measures of month t-2. As in Table 7, we first regress returns on ln(A)
and ln(A_C) in the left panel and then regress returns on ln(AT) and ln(AT_C) in the right panel.
These results generated with monthly measures are similar to those generated with annual measures
in Table 7. There is a positive premium associated with both ln(A) and ln(A_C), but not with the
residual ln(A) measure. Similarly, for turnover-based measures, both ln(AT) and ln(AT_C) are
priced but the residual ln(AT) measure is no longer priced. These results confirm the conclusions
drawn from using annual measures.
Brennan, Huh, and Subrahmanyam (2013) propose two directional half Amihud measures
constructed using the return-to-turnover ratio on the positive and negative return days separately.
Specifically, they construct the negative (positive) directional monthly Amihud measure, ATN
(ATP), using the return-to-turnover ratios on the negative (positive) return days:
1 Dim
min[rit ,0]
ATN im =
Dim

t =1 TOit
(9)
18
Dim
1 max[rit ,0]
ATPim =
Dim

t =1 TOit
(10)
where the rit and TOit are daily return and daily turnover for stock i on day t; Dim is the number of
days with available ratio in month m. 14 They find that, while both directional measures are associated
with a return premium when examined separately, in the multiple return regressions framework only
the negative half Amihud measure commands a return premium.
We construct the constant measures ATN_C and ATP_C corresponding to ATN and
ATP by replacing the numerator of the daily ratio with a constant one when the ratio is non-zero. In
Panel B of Table 8, we repeat the regression analyses using the directional Amihud measures (ATN
and ATP), their corresponding constant measures (ATN_C and ATP_C), and the residual
directional Amihud measures which are residuals from cross-section regressions of the directional
Amihud measure on the corresponding constant measures. Panel B shows that, consistent with
Brennan, Huh, and Subrahmanyam (2013), both ATN and ATP are associated with a return
premium when examined separately. More importantly, the corresponding constant measures are
priced similarly to the directional Amihud measures but the residual directional Amihud measures
are not priced. These results suggest that the pricing of the directional Amihud measures is also due
to their turnover components. 15
We further include the directional Amihud measures simultaneously in return regressions in
Panel C of Table 8. In Model (1), the coefficient on ATN remains significantly positive and that on
ATP is insignificant and close to zero. This result verifies the finding in Brennan, Huh, and
Subrahmanyam (2013) that the negative directional Amihud measure is priced but not the positive
14
We require a stock to have at least 10 days with valid return and volume data to compute the ratios, and at least two
positive return days and two negative return days in the estimation month.
15
We also repeat the sorting and the factor analyses for the ATN and ATP measures, and the unreported results also
show that their pricing is due to the turnover component.
19
measure when both are included in the same regression. Since Panel B of Table 8 suggests that the
pricing of the directional Amihud measures is due to their turnover components, in Model (2), we
re-estimate the regression in Model (1) but use the constant directional measures. We find that
ATN_C is priced but ATP_C is not. This result suggests that the observed asymmetric relations
between the directional Amihud measures and expected return also result from their turnover
components.
B. Robustness Test Using Sub-Periods
Since the market environment and transaction costs have changed over time, we divide our sample
period into two equal sub-periods (1964-1988 and 1989-2012) and re-examine our findings for each
sub-period. We repeat the Fama-MacBeth regressions of monthly stock return and present the
results in Table 9.
Panel A of Table 9 presents the regressions for 1964-1988. In Model (1), the coefficient on
the Amihud (2002) measure is significantly positive. Model (2) further shows that the constant
measure, ln(A_C), also has a positive and significant association with expected stock return. In
Model (3), the coefficient on ln(A_C) remains significantly positive but that on the residual ln(A)
measure is insignificantly negative (t-stat -1.34). Models (4)-(6) examine the turnover-based Amihud
measures. The turnover-based Amihud measure (AT) is also priced, consistent with the findings in
Brennan, Huh, and Subrahmanyam (2013). In Model (6), we find a positive premium for the
constant turnover-based Amihud measure (ln(AT_C)) but the residual ln(AT) measure is no longer
priced. Panel B of Table 9 presents the same regression analysis for the 1989-2012 subperiod, and
the results are similar to those detailed in Panel A. The sub-period analysis thus confirms the
conclusions of the full sample analysis that the pricing of the Amihud illiquidity measure is due to its
trading volume component.
20
C. Robustness Test Using NASDAQ Sample
Our main analysis uses NYSE- and AMEX-listed stocks because the NASDAQ trading volume
includes the inter-dealer volume. In this subsection, we also examine the pricing of the Amihud
measure for NASDAQ stocks using the firm-level Fama-MacBeth regression methodology. Panel C
of Table 9 shows that the regression results are similar to our previous results using the
NYSE/AMEX sample. While ln(A) and ln(A_C) are positively associated with expected returns, the
residual ln(A) measure is not. Similarly, the turnover-based Amihud measure ln(AT) and its
constant measure ln(AT_C) are both priced among NASDAQ stocks, but the residual component
of ln(AT) does not have a significant premium. For example, the t-statistic is -0.12 for the
coefficient on the residual ln(AT) measure. Our conclusions regarding the pricing of the Amihud
measures are therefore further supported by the analysis of NASDAQ stocks.
D. Robustness Test Using Raw Returns
In the regression analyses, we follow the literature and use the Fama-French three-factor adjusted
return to thoroughly control for the effects of price factors. For robustness, we now repeat the
regression analysis but use raw return as the dependent variable and present the results in Panel D of
Table 9. The coefficients on ln(A) and ln(A_C) are significantly positive but that on the residual
ln(A) is insignificant (t-stat 0.82). As expected, the coefficient on the book-to-market ratio becomes
significantly positive as the dependent variable does not adjust for the three Fama-French factors.
The right panel shows similar patterns for the turnover-based Amihud measures. These results
suggest that the findings of our regression analyses are robust to the use of raw return as the
dependent variable.
E. Robustness Test Controlling for Return Volatility
21
The numerator of the Amihud measure is absolute return, which by construction is positively
correlated with stock return volatility. Since a large number of studies have documented that
idiosyncratic stock volatility is negatively related to future returns (e.g., Ang, Hodrick, Xing, and
Zhang (2006)), we further control for idiosyncratic volatility in the regression analysis. 16 We repeat
the Fama-MacBeth regressions but further control for idiosyncratic return volatility, defined as
standard deviation of residuals from regressions of the firms daily returns on the daily Fama-French
three factors in the previous year. The results in Table 10 show that the coefficients on the original
measure, the constant measure, and the residual measure are unaffected by the inclusion of return
volatility in the model, suggesting that our results are robust after controlling for return volatility.
F. Robustness Test Using Trading Volume or Turnover Directly
For our main analyses, we use the constant measures that retain the volume component of the
Amihud measures and exclude the return component. Since the constant measures are the annual
or monthly averages of daily reciprocal of dollar trading volume or turnover, they could have
distributions and properties different from the average dollar trading volume and turnover. We
therefore repeat the regression analyses using the average of daily dollar volume or turnover directly.
In the left panel of Table 11, we estimate return regressions using the natural logarithm of
annual average of daily dollar volume (ln(VOLUME)) and the corresponding residual ln(A) measure
that is the residual of cross-sectional regression of ln(A) on ln(VOLUME). Model (1) shows that,
consistent with the existing literature, the coefficient on ln(VOLUME) is significantly negative (t-
stat -4.82), indicating that high volume stocks earn lower returns subsequently. More importantly,
the coefficient on residual ln(A) is negative and insignificant (t-stat -1.45), suggesting that the
Amihud (2002) measure is not priced after controlling for the dollar trading volume. Model (2)
16
The results are similar if we use total return volatility constructed as the standard deviation of the firms daily returns
in the previous year.
22
repeats the analysis using the monthly measures instead of annual measures, and the results are
similar. We further estimate return regressions of returns on the natural logarithm of average of daily
turnover (ln(TO)), and the residual ln(AT) measure constructed as the residual of the cross-sectional
regression of ln(AT) on ln(TO). The results are in the right panel of Table 11. The coefficient on
ln(TO) is significantly negative, suggesting that turnover is also priced. The coefficient on the
residual ln(AT), however, is negative and insignificant. Overall, the results in Table 11 show that our
findings hold when we directly examine dollar trading volume or turnover.
IV. Does Price Impact Explain the Pricing of the Amihud Illiquidity Measure?
A. High-Frequency Price Impact Benchmark
Our findings so far show that the pricing of the Amihud illiquidity measure is completely explained
by its association with trading volume. Although the existing literature proposes various
explanations for why trading volume is priced, one may argue that compensation for price impact
can drive the pricing of trading volume and in turn the pricing of the Amihud illiquidity measure.
We therefore use the high-frequency benchmark of price impact (Hasbrouck (2009), Goyenko,
Holden, and Trzcinka (2009)) to further examine the pricing of the Amihud illiquidity measure.
Previous studies construct this high-frequency price impact benchmark using the intra-day high-
frequency trading data and examine how well the low-frequency liquidity proxies capture price
impact.
We obtain the transaction data for all NYSE/AMEX stocks from 1983 to 2012, using ISSM
data to cover the period from 1983 to 1992 and the TAQ data to cover the period from 1993 to
2012. We then follow the literature (Hasbrouck (2009), Goyenko, Holden, and Trzcinka (2009)) and
construct the high-frequency benchmark of price impact using five-minute return and five-minute
23
trading volume. Specifically, for each firm-year, we estimate the price impact measure as the slope
coefficient of the following regression:
rn = SVoln + un , (11)
where for the nth five-minute period, rn is the five-minute stock return calculated as the natural log of
the price change over the nth period. SVoln is the signed square-root dollar volume of the nth period,
Kn
and un is the error term. We calculate signed square-root dollar volume as SVoln = signk dvolk ,
k =1
where dvoln is the dollar volume of the kth trade in the nth five-minute period, Kn is the number of
trades in the nth period, and signk is the sign of the kth trade assigned according to the Lee and Ready
(1991) trading classification method or the tick test. We winsorize the measure at the 1 and 99
percentiles in each cross-section to control for outliers. 17
We first examine the correlations between the price impact measure and the Amihud
illiquidity measures in Table 12. We calculate cross-sectional correlation coefficients each year, and
then report their time-series averages. Panel A shows that the Amihud (2002) illiquidity measure (A)
is highly correlated with price impact (), with a correlation coefficient of 0.803. This result is
consistent with what was documented in previous studies (Hasbrouck (2009), Goyenko, Holden,
and Trzcinka (2009)), indicating that the Amihud illiquidity measure does well capturing price
impact. Interestingly, the constant measure A_C is also highly correlated with the price impact ,
with a correlation coefficient of 0.797. The residual A measure is positively correlated with price
impact, but the correlation is only 0.161, much lower than that of A. These results suggest that the
majority of the correlation between the Amihud illiquidity measure and price impact is due to its
trading volume component, not its return-volume ratio.
17
Joel Hasbrouck estimated the high-frequency price impact measure for a sample of approximately 300 firms each year
from 1993 to 2005. For this comparative sample, the correlation between our estimate and his estimate is 0.91. We thank
Joel Hasbrouck for providing his estimates on his website.
24
Panel A of Table 12 also presents correlations between price impact and the turnover-based
Amihud measures (AT). The correlation is 0.691 for the AT measure. While this correlation is
higher than the 0.626 correlation for the residual AT measure, the difference is much smaller than
that between the A measure and the residual A measure. These results suggest that the trading
volume component also explains a portion of the relation between the turnover-based Amihud
measure and price impact, but the majority of such relation is due to the construct of return-to-
turnover ratio. Panel B of Table 12 further reports correlations between monthly price impact
measures and monthly Amihud measures, where the patterns are similar to those using annual
measures in Panel A.
To corroborate the correlation analysis, we estimate annual Fama-MacBeth regressions of
the price impact measure on the contemporaneous Amihud illiquidity measures and present the
results in Panel C of Table 12. We perform cross-sectional regressions in each year, and report the
time-series averages of cross-sectional regression coefficients and the associated t-statistics using the
Newey-West (1987) standard errors with six lags. To alleviate the impact of extreme values, we
follow the literature and take natural logs of the price impact measure and Amihud measures. We
also standardize the dependent and independent variables in order to compare the economic
magnitude of the coefficients. In Model (1), the coefficient on ln(A) is 0.957, indicating that one
standard deviation increase in ln(A) is associated with a 0.957 standard deviation increase in ln(). In
Models (2) and (3), the coefficient on ln(A_C) is 0.928, similar to that of ln(A). However, in Model
(3), the coefficient on residual ln(A) is 0.254, i.e., about one-fourth of the coefficient on ln(A).
These results are consistent with the correlations (Panel A of Table 12) in suggesting that the trading
volume component explains the majority of the relation between the Amihud measure and the high-
frequency price impact measure. Models (4)-(6) further show that the coefficient on residual ln(AT)
is 0.532, also lower than the 0.680 coefficient on ln(AT). Panel D of Table 12 presents the
25
corresponding regressions results for monthly price impact measures and monthly Amihud
measures, and the results are very close to those using annual measures.
Since the trading volume component of the Amihud measure is highly correlated with the
high-frequency price impact measure, it is important to examine whether the observed pricing of the
trading volume component is due to the pricing of price impact. Table 13 presents the Fama-
MacBeth regressions of monthly returns on the high-frequency price impact measure and Amihud
measures. In Model (1), the main independent variable ln() is the natural log of the price impact
measure estimated in the previous calendar year. We also include the usual control variables such
as size, book-to-market ratio, and past stock returns. The coefficient on ln() is insignificant (t-stat
0.41), indicating that the price impact measure itself is not positively related to expected return. This
result is puzzling, as it is inconsistent with the microstructure theory that predicts that investors will
demand higher expected returns for stocks associated with greater price impact (transaction cost).
Notably, in Model (2) of Table 13, the coefficient on the constant Amihud measure
ln(A_C) is significantly positive at the standard level (t-stat 2.98), and this finding is robust after
controlling for the price impact measure in Model (3). Models (4) and (5) further examine the
turnover-based Amihud measure, and the results show that the pricing of the turnover component,
ln(AT_C), is robust after controlling for the price impact measure. Overall, the results in Table 13
clearly demonstrate that the pricing of the trading volume component of the Amihud measure is not
due to price impact.
B. Examine Returns in the Earnings-Announcement and Non-Earnings-Announcement Periods
One may argue that, despite the results using the high-frequency price impact benchmark, the
pricing of the trading volume component of the Amihud (2002) measure is still liquidity premium
that is unrelated to price impact. The current literature does not have a consensus as to why trading
volume is priced. While some researchers believe that trading volume is priced as a (relatively noisy)
26
liquidity proxy, there is a large literature that attributes the pricing of trading volume to non-liquidity
factors such as mispricing. In this subsection, we make an attempt to distinguish between the
liquidity and non-liquidity explanations.
We examine the relation between the trading volume component of the Amihud (2002)
measure and future returns in the earnings announcement period and non-earnings-announcement
period separately. If the return premium associated with the trading volume component is liquidity
premium, then we expect such return premium to spread evenly over time. If, as suggested by
previous studies, the return premium of the trading volume component is due to high volume stocks
being overpriced and therefore earning low returns subsequently, then we expect the return
premium to be more pronounced in the earnings announcement period than in the non-earnings-
announcement period as the release of earnings information helps correct mispricing (e.g., La Porta,
Lakonishok, Shleifer, Vishny (1997)).
We collect earnings announcement dates for the sample firms from COMPUSTAT. Since
the announcement dates are available from 1972, the sample period for this test is from 1972 to
2012. At the beginning of month t, we examine the subset of sample firms with earnings
announcement in month t, and sort these stocks into quintile portfolios according to the Amihud
(2002) measure of the previous year. Then for each stock in month t, we calculate its buy-and-hold
abnormal return in the three-day window [-1,1] surrounding the earnings announcement date
(BHAR [-1,1]) as the three-day buy-and-hold raw return minus the three-day buy-and-hold value-
weighted CRSP return. 18 We also calculate buy-and-hold abnormal returns for the days in month t
other than the three-day earnings announcement window (BHAR in the non-announcement period).
We then calculate the monthly average of BHARs for the quintile portfolios and report time-series
average portfolio returns.

18
We require that the whole three-day earnings announcement window [-1,1] fall in month t.
27
In Panel A of Table 14, we first examine BHAR [-1,1] sorted on the Amihud (2002)
measure. BHAR [-1,1] is increasing in the Amihud (2002) measure, and the spread between the top
and the bottom quintiles is a large 0.73 percent (t-stat 7.27). We observe very similar results when
sorting stocks on the constant Amihud measure A_C, the turnover-based Amihud measure AT, and
its constant measure AT_C. These results also hold when we use monthly measures instead of
annual measures. 19
In stark contrast, Panel B of Table 14 shows that BHAR for the non-earnings-
announcement period does not vary much across the Amihud measures. Although the non-
earnings-announcement period is a much longer window than the three-day earnings announcement
window, the spread in BHAR for the non-earnings-announcement period is small and insignificant
across the Amihud measures. 20 Overall, the results in Table 14 suggest that the return premium of
the trading volume component is unlikely to be just liquidity premium unless investors demand
liquidity premium only in the earnings announcement window. While pinning down the exact source
of volume premium is beyond the scope of our paper, these results provide at least some suggestive
evidence that the pricing of the trading volume component can be attributable to non-liquidity
factors.
V. Conclusion
We examine the pricing of the Amihud (2002) measure, one of the most widely used liquidity
proxies in the current finance literature. We find that the return premium associated with the
Amihud (2002) measure is driven by its association with trading volume but not its construct of
19
Our finding is consistent with Lee and Swaminathan (2000) who find that firms with higher trading volume
experience more negative earnings surprise in the subsequent period.
20
In unreported results, we also estimate Fama-MacBeth regressions of BHARs on the Amihud measures that control
for size, book-to-market ratio, momentum, and reversal. The results also show that the Amihud measures are positively
related to BHAR [-1,1] but not BHAR in the non-earnings-announcement period.
28
return-to-volume ratio to capture price impact. A constant measure using only the trading volume
component exhibits a return predictability matching that of the Amihud (2002) measure, and the
return premium associated with the Amihud (2002) measure disappears once the variation of the
trading volume component is removed. These findings survive a broad set of robustness tests,
including the use of alternative versions of the Amihud measure, construction of the Amihud
measures on a monthly basis, use of an alternative sample of NASDAQ stocks, and division of our
sample period into sub-periods. Further analyses show that the high-frequency measure of price
impact does not seem to be priced, nor does it explain the pricing of the Amihud illiquidity measure.
Additionally, the return premium associated with the trading volume component of the Amihud
(2002) measure is concentrated in the earnings announcement window.
While the pricing of the Amihud (2002) measure is generally considered to result from the
compensation for price impact, we provide a new understanding of why it is priced. Our findings are
nontrivial because financial researchers are still debating why trading volume is priced. In fact, a
large number of studies suggest or find evidence that trading volume and its pricing are related to
non-liquidity factors. Our findings therefore call for caution in the use of the Amihud measure to
examine liquidity premium, control for liquidity in the tests of asset pricing, or construct liquidity
factor.
Our findings also have important general implications for how to measure liquidity and how
liquidity affects security prices. Our findings illustrate the importance of developing liquidity
measures based on explicit theoretical models instead of empirical evidence, as pointed out by
Chordia, Huh, and Subrahmanyam (2009). Additionally, using both the low-frequency Amihud
measure and the high-frequency price impact benchmark, we find little evidence that price impact, a
major component of transaction cost, is priced. This puzzling result seems to contradict the theory
and calls for further analysis.
29
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returns, Working paper, Stanford University.
Johnson, Timothy C., 2008, Volume, liquidity, and liquidity risk, Journal of Financial Economics 87, 388-
417.
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stocks: Further evidence on market efficiency, Journal of Finance 52, 859-874.
Lee, Charles M. C., Belinda Mucklow, and Mark J. Ready, 1993, Spreads, depths, and the impact of
earnings information: an intraday analysis, Review of Financial Studies 6, 345374.
Lee, Charles M. C., and Bhaskaran Swaminathan, 2000, Price momentum and trading volume,
Journal of Finance 55, 2017-2069.
Newey, Whitney K, and Kenneth D. West, 1987, A simple, positive semi-definite, heteroskedasticity
and autocorrelation consistent covariance matrix, Econometrica 55, 703708.
31
Table 1: Summary Statistics
Panel A presents summary statistics of the liquidity measures for the 98,244 firm-years in our
sample. Our sample contains ordinary common shares (share codes 10 or 11) listed in NYSE or
AMEX. The liquidity measures are constructed annually for firms from 1963 to 2011. A is the
original Amihud (2002) measure, defined as the daily ratio of absolute return to dollar trading
volume, averaged across all days in a year. AT is the turnover-based Amihud (2002) measure,
defined as the annual average of the daily ratio of absolute return to turnover, where turnover is
daily share volume divided by the shares outstanding. A_C and AT_C are constructed exactly as A
and AT, respectively, but the numerators of the ratios are 1 instead of the absolute return. |Ret| is
the annual average of daily absolute return. The liquidity measures, as well as |Ret|, are winsorized
at 1 and 99 percentage points in each cross-section. Market Cap for a firm is the firms market
capitalization at the end of the estimation year (in millions of dollars). B/M is the book-to-market
ratio calculated as a firms book value divided by the firms market capitalization. The B/M ratio is
winsorized at the 0.5% and 99.5% level in each cross-section. Panel B presents summary statistics of
the corresponding measures that are constructed monthly from November 1963 to October 2012
for the 1,197,252 firm-months in our sample. To ease reading, we multiply A and A_C by 106.
Mean STD Q10 Q25 Q50 Q75 Q90
Panel A: Summary Statistics: Annual Measures
A 3.563 14.923 0.001 0.010 0.138 1.123 6.120
AT 37.53 64.55 3.11 7.04 17.47 39.89 84.14
A_C 127.70 331.88 0.09 0.82 11.50 91.88 345.47
AT_C 2,504.00 3,111.84 220.65 529.64 1,450.31 3,276.76 5,881.28
|RET| 0.020 0.011 0.009 0.012 0.017 0.024 0.033
Market Cap ($M) 2,303.2 11,717.0 10.8 35.1 179.9 964.3 3,712.9
B/M 0.987 0.976 0.249 0.438 0.747 1.218 1.889
Panel B: Summary Statistics: Monthly Measures
A 3.133 14.978 0.001 0.008 0.101 0.861 4.908
AT 35.87 70.75 2.46 5.68 14.46 35.87 80.97
A_C 116.35 329.34 0.07 0.62 8.29 72.29 302.82
AT_C 2427.22 3451.93 180.74 423.06 1169.49 2989.59 5993.75
|RET| 0.020 0.014 0.008 0.011 0.016 0.024 0.035
32
Table 2: Correlations among Various Versions of the Amihud Measure
Panel A presents the time-series averages of the cross-sectional correlation coefficients among the
various versions of the Amihud measure constructed annually from 1963 to 2011. We first calculate
cross-sectional correlation coefficients among the variables for each year, and then report the time-
series averages of the cross-sectional correlation coefficients. A is the original Amihud (2002)
measure, defined as the daily ratio of absolute return to dollar trading volume, averaged across all
days in a year. AT is the turnover-based Amihud (2002) measure, defined as the annual average of
the daily ratio of absolute return to turnover, where turnover is daily share volume divided by the
shares outstanding. A_C and AT_C are constructed exactly as A and AT, respectively, but the
numerators of the ratios are 1 instead of the absolute return. |Ret| is the annual average of daily
absolute return. Panel B presents the time-series averages of the cross-sectional correlation
coefficients among the monthly Amihud measures which are constructed in each month from
November 1963 to October 2012. All the liquidity measures and |Ret| are winsorized at 1 and 99
percentage points in each cross-section.
A AT A_C AT_C |Ret|
Panel A: Correlations Among Amihud Measures: Annual Measures
A 1.000
AT 0.682 1.000
A_C 0.941 0.705 1.000
AT_C 0.303 0.782 0.406 1.000
|Ret| 0.610 0.422 0.549 0.004 1.000
Panel B: Correlations Among Amihud Measures: Monthly Measures
A 1.000
AT 0.691 1.000
A_C 0.899 0.685 1.000
AT_C 0.312 0.746 0.443 1.000
|Ret| 0.489 0.347 0.394 -0.040 1.000
33
Table 3: Monthly Fama-MacBeth Regressions of Stock Returns: Decomposition of the
Amihud Measure
This table presents monthly Fama-MacBeth regressions of stock returns on the components of the
Amihud (2002) measure from 1964 to 2012. The dependent variable is the monthly FF3-adjusted
return. FF3-adjusted return is calculated based on the three-factor model where the factor loadings
are estimated in the preceding sixty months. The independent variables include the natural logs of
the components of the Amihud measure. A_C is defined as the daily ratio of 1 to dollar trading
volume, averaged across all days in a year. AT is the turnover-based Amihud (2002) measure,
defined as the annual average of the daily ratio of absolute return to turnover, where turnover is
daily share volume divided by the shares outstanding. AT_C is constructed as AT but the numerator
of the ratio is 1 instead of absolute return. |Ret| is the annual average of daily absolute return over
the estimation year. S is the annual average of market capitalization over the estimation year. We also
control for a number of firm characteristics. B/M is the book-to-market ratio calculated as a firms
book value divided by the firms market capitalization. For the regression of month t, Ret[-12,-2] is
the cumulative stock return from month t-12 to month t-2, and Ret[-1] is the stock return of month
t-1. We estimate a cross-sectional regression in each month and then report the time-series means
and t-statistics (in parentheses). We also report the time-series average of the number of
observations and adjusted R2 of the cross-sectional regressions. All the regressions include a
constant which is not reported for brevity. T-statistics are calculated using Newey-West robust
standard errors with 6 lags. ***, **, and * represent statistical significance at the 1%, 5%, and 10%
levels, respectively.
Dependent Variable: FF3-Adjusted Return
(1) (2) (3)
ln(AT) 0.259***
(5.09)
ln(A_C) 0.101***
(4.26)
ln(AT_C) 0.206***
(4.69)
ln|Ret| -0.426*** -0.252
(-2.95) (-1.59)
ln(S) 0.017 -0.047*
(0.71) (-1.86)
B/M 0.032 -0.007 0.006
(0.75) (-0.17) (0.15)
Ret[-12,-2] 0.354* 0.322* 0.330*
(1.66) (1.65) (1.68)
Ret[-1] -6.946*** -7.226*** -7.232***
(-13.24) (-13.76) (-13.78)
Adj. R2 0.032 0.036 0.037
Ave. # obs 1,771 1,771 1,771
# Months 588 588 588
34
Table 4: Monthly Stock Returns of Portfolios Sorted on Amihud Measures
Panel A presents monthly returns (%) of portfolios sorted on the Amihud measures. A is the
Amihud (2002) measure, defined as the daily ratio of absolute return to dollar trading volume,
averaged across all days in a year. At the beginning of each month from 1964 to 2012, stocks are
sorted into quintile portfolios according to the A measures of the previous year. We then calculate
monthly equal-weighted portfolio returns for the quintile portfolios and report time-series average
portfolio returns or four-factor alphas, where the four-factor alpha is constructed using the three
Fama-French factors and the momentum factor (UMD). The differences between the top and
bottom quintiles are also reported with associated t-statistics. We then repeat the sorting using the
A_C measure and the residual A measure, where A_C is constructed as A but the numerator of the
ratio is 1 instead of absolute return, and the residual A measure is the residual from the monthly
cross-sectional regression of the A measure on the A_C measure. Panel B is similar to Panel A
except that we sort stocks based on AT, AT_C, and residual AT, where AT is the turnover-based
Amihud (2002) measure, defined as the annual average of the daily ratio of absolute return to
turnover. AT_C is constructed as AT but the numerator of the ratio is 1 instead of absolute return,
and the residual AT measure is the residual from the monthly cross-sectional regression of the AT
measure on the AT_C measure. The t-statistics (in parentheses) are calculated using Newey-West
robust standard errors with 6 lags.
Portfolios Sorted on Amihud Measures
Liquid 2 3 4 Illiquid Illiq Liq t-stat
Panel A: Sorted on Original Amihud Measures
Sorted on A
Raw Return 0.96 1.07 1.17 1.27 1.76 0.80 (3.38)
Four-Factor Alpha 0.04 -0.01 -0.02 0.04 0.47 0.43 (2.83)
Sorted on A_C
Raw Return 0.95 1.06 1.15 1.30 1.78 0.83 (3.95)
Four-Factor Alpha 0.01 -0.04 -0.02 0.07 0.51 0.50 (3.50)
Sorted on Res. A Measure
Raw Return 1.53 1.34 1.14 1.04 1.19 -0.34 (-2.12)
Four-Factor Alpha 0.33 0.12 -0.02 -0.04 0.14 -0.20 (-1.40)
Panel B: Sorted on Turnover-Based Amihud Measures
Sorted on AT
Raw Return 0.94 1.11 1.21 1.27 1.69 0.76 (4.84)
Four-Factor Alpha -0.16 0.02 0.09 0.08 0.49 0.65 (4.23)
Sorted on AT_C
Raw Return 0.94 1.18 1.23 1.38 1.50 0.55 (3.88)
Sorted on Res. AT Measure
Raw Return 1.16 1.11 1.13 1.22 1.61 0.46 (1.74)
Four-Factor Alpha 0.18 0.06 -0.02 -0.02 0.32 0.14 (0.74)
35
Table 5: Monthly Stock Returns of Portfolios Sorted on Amihud Measures: Monthly
Measures
Panel A presents monthly returns (%) of portfolios sorted on the monthly Amihud measures. A is
the monthly Amihud (2002) measure, defined as the daily ratio of absolute return to dollar trading
volume, averaged across all days in a month. At the beginning of each month t from 1964 to 2012,
stocks are sorted into quintile portfolios according to the A measures of month t-2. We then
calculate monthly equal-weighted portfolio returns for the quintile portfolios and report time-series
average portfolio returns or four-factor alphas, where the four-factor alpha is constructed using the
three Fama-French factors and the momentum factor (UMD). The differences between the top and
bottom quintiles are also reported with associated t-statistics. We then repeat the sorting for the
A_C measure and the residual A measure, where A_C is constructed as A but the numerator of the
ratio is 1 instead of absolute return, and the residual A measure is the residual from the monthly
cross-sectional regression of the A measure on the A_C measure. Panel B is similar to Panel A
except that we sort stocks based on AT, AT_C, and residual AT, where AT is the turnover-based
Amihud (2002) measure, defined as the monthly average of the daily ratio of absolute return to
turnover. AT_C is constructed as AT but the numerator of the ratio is 1 instead of absolute return,
and the residual AT measure is the residual from the monthly cross-sectional regression of the AT
measure on the AT_C measure. The t-statistics (in parentheses) are calculated using Newey-West
robust standard errors with 6 lags.
Liquid 2 3 4 Illiquid Illiq Liq t-stat
Panel A: Sorted on Original Amihud Measures: Monthly Measures
Sorted on A
Raw Return 0.96 1.16 1.23 1.29 1.53 0.56 (2.36)
Sorted on A_C
Raw Return 0.96 1.13 1.23 1.28 1.57 0.61 (2.95)
Four-Factor Alpha -0.05 -0.01 0.03 0.11 0.39 0.44 (3.20)
Sorted on Res. A Measure
Raw Return 1.39 1.29 1.19 1.10 1.21 -0.17 (-1.05)
Four-Factor Alpha 0.25 0.14 0.04 -0.05 0.09 -0.16 (-0.96)
Panel B: Sorted on Turnover-Based Amihud Measures: Monthly Measures
Sorted on AT
Raw Return 1.02 1.18 1.25 1.31 1.41 0.39 (2.64)
Sorted on AT_C
Raw Return 1.00 1.26 1.23 1.36 1.33 0.33 (2.39)
Sorted on Res. AT Measure
Raw Return 1.17 1.18 1.23 1.25 1.35 0.18 (0.74)
Four-Factor Alpha 0.19 0.06 0.03 0.03 0.16 -0.03 (-0.21)
36
Table 6: Monthly Stock Returns of Portfolios Sorted on Amihud Measures: Alphas using the
Return Factors Based on Trading Volume Components
Panel A presents monthly one-factor and five-factor alphas (%) of portfolios sorted on the Amihud
measures. A is the original Amihud (2002) measure, defined as the daily ratio of absolute return to
dollar trading volume, averaged across all days in a year. At the beginning of each month from 1964
to 2012, stocks are sorted into quintile portfolios according to the A measures of the previous year.
We then calculate monthly equal-weighted portfolio returns for the quintile portfolios and report
time-series one-factor alpha and five-factor alpha. One-factor alpha is constructed using the IMLA_C
factor, where the monthly factor return of IMLA_C (illiquid minus liquid) is the monthly equal-
weighted returns of the top A_C tercile minus that of the bottom A_C tercile. A_C is constructed
as A but the numerator of the ratio is 1 instead of absolute return. Five-factor alpha is constructed
using the IMLA_C factor together with the three Fama-French factors and the momentum factor
(UMD). We also report the differences between the top and bottom quintiles and associated t-
statistics. AT is the turnover-based Amihud (2002) measure, defined as the annual average of the
daily ratio of absolute return to turnover, and AT_C is constructed as AT but the numerator of the
ratio is 1 instead of absolute return. Panel B is similar to Panel A but uses monthly measures. The
corresponding Amihud measures are constructed each month, and stocks in month t are sorted by
Amihud measures constructed in month t-2. The t-statistics (in parentheses) are calculated using
Newey-West robust standard errors with 6 lags.
Liquid 2 3 4 Illiq. Illiq Liq t-stat
Panel A: Sorted on Original and Turnover-Based Amihud Measures
Sorted on A
One-Factor Alpha: IMLA_C 0.59 0.58 0.53 0.44 0.57 -0.02 (-0.46)
Five-Factor Alpha: IMLA_C & 4 Factors 0.10 0.04 0.00 -0.07 0.06 -0.03 (-0.74)
Sorted on AT
One-Factor Alpha: IMLAT_C 1.03 1.12 1.15 1.13 1.34 0.31 (1.05)
Five-Factor Alpha: IMLAT_C & 4 Factors 0.07 0.16 0.14 0.02 0.15 0.08 (0.87)
Panel B: Sorted on Original and Turnover-Based Amihud Measures: Monthly Measures
Sorted on A
One-Factor Alpha: IMLA_C 0.57 0.68 0.64 0.56 0.53 -0.04 (-0.77)
Five-Factor Alpha: IMLA_C & 4 Factors 0.03 0.10 0.06 0.00 -0.05 -0.08 (-1.66)
Sorted on AT
One-Factor Alpha: IMLAT_C 0.89 1.00 1.03 1.05 1.05 0.16 (1.44)
Five-Factor Alpha: IMLAT_C & 4 Factors 0.02 0.17 0.17 0.13 0.01 -0.02 (-0.20)
37
Table 7: Monthly Fama-MacBeth Regressions of Stock Returns on Amihud Measures
This table presents the estimation results of monthly Fama-MacBeth regressions of stock returns on
the Amihud (2002) measures from 1964 to 2012. The dependent variable is the monthly FF3-
adjusted return. FF3-adjusted return of month t is calculated based on the three-factor model where
the factor loadings are estimated over the preceding sixty months [t-60,t-1] with at least 24
observations for each firm-level time-series regression. The independent variables include the natural
logs of the Amihud measures. Ln(A) is the natural log of the annual Amihud (2002) measure (A),
defined as the daily ratio of absolute return to dollar trading volume, averaged across all days in the
previous calendar year. Ln(A_C) is the natural log of A_C which is constructed as A but the
numerator of the ratio is 1 instead of absolute return. Res. ln(A) is the residual from the monthly
cross-sectional regression of ln(A) on ln(A_C). The right panel is similar to the left panel except that
the liquidity measure is AT which is the turnover-based Amihud measure, defined as the annual
average of the daily ratio of absolute return to turnover. AT_C is constructed as AT but the
numerator of the ratio is 1 instead of absolute return. Res. ln(AT) is the residual from the monthly
cross-sectional regression of ln(AT) on ln(AT_C). We also control for a number of firm
characteristics. Ln(ME) is the natural log of market capitalization at the end of the previous year.
B/M is the ratio of book value of equity to market value of equity. For the regression of month t,
Ret[-12,-2] is the cumulative return from month t-12 to month t-2, and Ret[-1] is stock return of
month t-1. We estimate a cross-sectional regression in each month and then report the time-series
means and t-statistics (in parentheses). We also report the time-series average of the number of
(1) (2) (3) (4) (5) (6)
ln(A) 0.200*** ln(AT) 0.246***
(4.12) (4.86)
ln(A_C) 0.209 *** 0.183 *** ln(AT_C) 0.244*** 0.238***
(4.74) (3.78) (5.60) (5.14)
Res. ln(A) -0.158 Res. ln(AT) -0.099
(-1.15) (-0.70)
ln(ME) 0.185*** 0.178*** 0.138*** ln(ME) 0.007 -0.015 -0.025
(3.73) (3.44) (3.06) (0.27) (-0.50) (-1.06)
B/M 0.045 0.038 0.024 B/M 0.034 0.022 0.015
(1.08) (0.93) (0.57) (0.82) (0.53) (0.37)
Ret[-12,-2] 0.327* 0.332 * 0.323 * Ret[-12,-2] 0.377* 0.365* 0.360*
(1.68) (1.78) (1.77) (1.87) (1.85) (1.86)
Ret[-1] -6.965*** -6.917 *** -7.197 *** Ret[-1] -6.914*** -6.906*** -7.148***
(-13.27) (-13.24) (-13.70) (-13.19) (-13.24) (-13.65)
Adj. R2 0.032 0.033 0.037 Adj. R2 0.032 0.032 0.037
Ave. # obs 1,771 1,771 1,771 Ave. # obs 1,771 1,771 1,771
# Months 588 588 588 # Months 588 588 588
38
Table 8: Monthly Fama-MacBeth Regressions of Stock Returns on Amihud Measures:
Monthly Measures
Panel A presents the estimation results of monthly Fama-MacBeth regressions of stock returns on
the monthly Amihud (2002) measures from 1964 to 2012. The regressions are similar to those in
Table 7 except that the Amihud measures are constructed on a monthly basis. Ln(A) is the natural
log of the monthly Amihud measure (A), defined as the daily ratio of absolute return to dollar
trading volume, averaged across all days in month t-2. Ln(A_C) is the natural log of A_C which is
constructed as A but the numerator of the ratio is 1 instead of absolute return. Res. ln(A) is the
residual from the monthly cross-sectional regression of ln(A) on ln(A_C). The right panel is similar
to the left panel except that the liquidity measure is AT which is the turnover-based Amihud
measure, defined as the monthly average of the daily ratio of absolute return to turnover in month t-
2. AT_C is constructed as AT but the numerator of the ratio is 1 instead of absolute return. Res.
ln(AT) is the residual from the monthly cross-sectional regression of ln(AT) on ln(AT_C). We also
control for a number of firm characteristics. Ln(ME) is the natural log of market capitalization at the
end of the previous year. B/M is the ratio of book value of equity to market value of equity. For the
regression of month t, Ret[-12,-2] is the cumulative return from month t-12 to month t-2, and Ret[-1]
is stock return of month t-1. Panel B is similar to Panel A except that the independent variables are
directional turnover-based Amihud measures. Ln(ATN) is the natural log of the monthly directional
Amihud measure for negative return days (ATN), which is constructed as AT but the absolute
return-to-volume ratio is non-zero for only the return days. Ln(ATN_C) is the natural log of
ATN_C which is constructed as ATN but the numerator of the ratio is 1 instead of absolute return.
Res. ln(ATN) is the residual from the monthly cross-sectional regression of ln(ATN) on ln(ATN_C).
The right panel is similar to the left panel except that the liquidity measure is ATP which is the
monthly directional turnover-based Amihud measure for positive return days, which is constructed
as the AT but the absolute return-to-volume ratio is non-zero for only the positive return days.
ATP_C is constructed as ATP but the numerator of the ratio is 1 instead of absolute return. Res.
ln(ATP) is the residual from the monthly cross-sectional regression of ln(ATP) on ln(ATP_C). In
Panel C, the regressions include ln(ATN) and ln(ATP) in the same regression (left panel), and
n(ATN_C) and ln(ATP_C) in the same regression (right panel). The regressions in Panels B and C
include the same control variables as in Panel A but are not reported for brevity. T-statistics are
calculated using Newey-West robust standard errors with 6 lags. ***, **, and * represent statistical
significance at the 1%, 5%, and 10% levels, respectively.
39
Panel A: Regressions on Amihud Measures: Monthly Measures
(1) (2) (3) (4) (5) (6)
ln(A) 0.119*** ln(AT) 0.163***
(3.01) (3.95)
ln(A_C) 0.183*** 0.130*** ln(AT_C) 0.223*** 0.198***
(4.79) (3.31) (5.77) (5.10)
Res. ln(A) -0.248*** Res. ln(AT) -0.207**
(-3.14) (-2.53)
ln(ME) 0.080** 0.144*** 0.069* ln(ME) -0.025 -0.027 -0.053**
(2.04) (3.14) (1.82) (-0.99) (-0.91) (-2.15)
B/M 0.044 0.034 0.026 B/M 0.041 0.027 0.025
(1.04) (0.81) (0.61) (0.97) (0.65) (0.58)
Ret[-12,-2] 0.430** 0.542*** 0.423** Ret[-12,-2] 0.453** 0.505** 0.429**
(2.05) (2.63) (2.09) (2.18) (2.49) (2.13)
Ret[-1] -6.755*** -6.716*** -6.915*** Ret[-1] -6.725*** -6.734*** -6.897***
(-12.88) (-12.83) (-13.23) (-12.86) (-12.91) (-13.23)
Adj. R2 0.031 0.032 0.035 Adj. R2 0.031 0.032 0.035

Ave. # obs 1,775 1,775 1,775 Ave. # obs 1,775 1,775 1,775
# Months 588 588 588 # Months 588 588 588
Panel B: Regressions on the Negative/Positive Amihud Measures: Monthly Measures
(1) (2) (3) (4) (5) (6)
ln(ATN) 0.219*** ln(ATP) 0.264***
(4.36) (5.33)
ln(ATN_C) 0.239 *** 0.219 *** ln(ATP_C) 0.258*** 0.253***
(5.45) (4.70) (6.05) (5.75)
Res. ln(ATN) -0.137 Res. ln(ATP) -0.034
(-0.99) (-0.25)
Controls Yes Yes Yes Controls Yes Yes Yes
Adj. R2 0.032 0.032 0.037 Adj. R2 0.032 0.031 0.038
Ave. # obs 1,765 1,765 1,765 Ave. # obs 1,765 1,545 1,765
# Months 588 588 588 # Months 588 588 588
Panel C: Regressions on the Negative and Positive Amihud Measures: Horse Race
(1) (2)
ln(ATN) 0.166*** ln(ATN_C) 0.164***
(4.18) (5.60)
ln(ATP) 0.000 ln(ATP_C) 0.060
(0.01) (1.55)
Controls Yes Controls Yes
Adj. R2 0.032 Adj. R2 0.032
Ave. # obs 1,763 Ave. # obs 1,763
# Months 588 # Months 588
40
Robustness Tests
Panel A presents monthly Fama-MacBeth regressions of stock returns (%) on the Amihud measures.
The regressions are similar to those in Table 7 except that they cover the sub-period of 1964-1988.
The regressions in Panel B are similar those in Table 7 but for the sub-period of 1989-2012. The
regressions in Panel C are similar to those in Table 7 but use the NASDAQ stocks from 1984-2012.
The regressions in Panel D are similar to those in Table 7 but use the monthly raw returns as
dependent variable instead of FF3-adjusted returns. The regressions in Panels B to D include the
same control variables as in Panel A but are not reported for brevity. T-statistics are calculated using
Newey-West robust standard errors with 6 lags. ***, **, and * represent statistical significance at the
1%, 5%, and 10% levels, respectively.
Panel A: 1964-1988
(1) (2) (3) (4) (5) (6)
ln(A) 0.272*** ln(AT) 0.274***
(3.47) (3.21)
ln(A_C) 0.300 *** 0.242 *** ln(AT_C) 0.298*** 0.275***
(4.44) (3.08) (4.19) (3.60)
Res. ln(A) -0.251 Res. ln(AT) -0.223
(-1.34) (-1.17)
ln(ME) 0.265*** 0.276*** 0.194*** ln(ME) -0.003 -0.017 -0.042
(4.05) (4.68) (3.30) (-0.07) (-0.41) (-1.20)
B/M 0.113** 0.097* 0.073 B/M 0.101* 0.080 0.065
(2.00) (1.73) (1.28) (1.81) (1.43) (1.13)
Ret[-12,-2] 0.626*** 0.590 *** 0.568 *** Ret[-12,-2] 0.710*** 0.674*** 0.648***
(3.30) (3.18) (3.14) (3.81) (3.65) (3.62)
Ret[-1] -8.886*** -8.826*** -9.139*** Ret[-1] -8.814*** -8.771*** -9.070***
(-13.47) (-13.43) (-13.81) (-13.40) (-13.38) (-13.76)
Adj. R2 0.035 0.036 0.041 Adj. R2 0.036 0.036 0.041
Ave. # obs 1,817 1,817 1,817 Ave. # obs 1,817 1,817 1,817
# Months 300 300 300 # Months 300 300 300
Panel B: 1989-2012
(1) (2) (3) (4) (5) (6)
ln(A) 0.125** ln(AT) 0.217***
(2.32) (4.10)
ln(A_C) 0.114** 0.121** ln(AT_C) 0.187*** 0.199***
(2.19) (2.26) (3.92) (3.95)
Res. ln(A) -0.062 Res. ln(AT) 0.031
(-0.31) (0.15)
Adj. R2 0.028 0.029 0.033 Adj. R2 0.028 0.029 0.033
Ave. # obs 1,723 1,723 1,723 Ave. # obs 1,723 1,723 1,723
# Months 288 288 288 # Months 288 288 288
41
Panel C: NASDAQ Sample: 1984-2012
(1) (2) (3) (4) (5) (6)
ln(A) 0.090* ln(AT) 0.164***
(1.85) (3.41)
ln(A_C) 0.113** 0.113** ln(AT_C) 0.183*** 0.185***
(2.00) (2.29) (3.21) (3.62)
Res. ln(A) -0.076 Res. ln(AT) -0.016
(-0.51) (-0.12)
Adj. R2 0.024 0.025 0.027 Adj. R2 0.024 0.025 0.027
Ave. # obs 2,522 2,522 2,522 Ave. # obs 2,522 2,522 2,522
# Months 348 348 348 # Months 348 348 348
Panel D: Regressions of Raw Returns
Dependent Variable: Raw Return
(1) (2) (3) (4) (5) (6)
ln(A) 0.159*** ln(AT) 0.202***
(3.36) (4.00)
ln(A_C) 0.112 ** 0.157 *** ln(AT_C) 0.144** 0.179***
(2.00) (3.62) (2.49) (3.44)
Res. ln(A) 0.159 Res. ln(AT) 0.222
(0.82) (1.14)

Adj. R2 0.050 0.053 0.062 Adj. R2 0.050 0.054 0.062
Ave. # obs 1,771 1,771 1,771 Ave. # obs 1,771 1,771 1,771
# Months 588 588 588 # Months 588 588 588
42
Control for Idiosyncratic Volatility
adjusted return as defined in the heading of Table 7. The independent variables include the natural
logs of the Amihud measures. Ln(A) is the natural log of the annual Amihud (2002) measure (A),
defined as the daily ratio of absolute return to dollar trading volume, averaged across all days in the
previous calendar year. Ln(A_C) is the natural log of A_C which is constructed as A but the
numerator of the ratio is 1 instead of absolute return. Res. ln(A) is the residual from the monthly
cross-sectional regression of ln(A) on ln(A_C). The right pane is similar to the left panel except the
liquidity measure used is AT, which is the turnover-based Amihud (2002) measure, defined as the
annual average of the daily ratio of absolute return to turnover. AT_C is constructed as AT but the
numerator of the ratio is 1 instead of absolute return. Res. ln(AT) is the residual from the monthly
cross-sectional regression of ln(AT) on ln(AT_C). We also control for a number of firm
characteristics. ln(ME) is the natural log of market capitalization; B/M is the ratio of book value of
equity to market value of equity; Ret[-12,-2] is the cumulative return from month t-12 to month t-2,
and Ret[-1] is the stock return of month t-1. These control variables are defined in the heading of
Table 7. Idio. Vol. is idiosyncratic return volatility, defined as the standard deviation of residuals from
the regression of the firms daily excess returns on daily Fama-French three factors in the previous
year. We estimate a cross-sectional regression in each month and then report the time-series means
and t-statistics (in parentheses). We also report the time-series average of the number of
(1) (2) (3) (4) (5) (6)
ln(A) 0.194*** ln(AT) 0.231***
(4.30) (4.97)
ln(A_C) 0.200 *** 0.181 *** ln(AT_C) 0.228*** 0.209***
(4.78) (3.80) (5.28) (4.85)
Res. ln(A) -0.115 Res. ln(AT) -0.018
(-0.87) (-0.14)
ln(ME) 0.141*** 0.157*** 0.132*** ln(ME) -0.033 -0.026 -0.034
(3.14) (3.55) (2.92) (-1.35) (-1.07) (-1.41)
B/M 0.013 0.015 0.009 B/M 0.003 0.004 0.001
(0.30) (0.34) (0.22) (0.08) (0.09) (0.02)
Ret[-12,-2] 0.343* 0.337* 0.334* Ret[-12,-2] 0.385** 0.377** 0.378**
(1.86) (1.86) (1.81) (2.01) (1.98) (1.97)
Ret[-1] -7.220*** -7.217*** -7.260*** Ret[-1] -7.186*** -7.179*** -7.226***
(-13.78) (-13.79) (-13.87) (-13.71) (-13.74) (-13.82)
Idio. Vol. -12.062** -6.535 -5.471 Idio. Vol. -11.712** -5.802 -7.008
(-2.40) (-1.32) (-0.93) (-2.36) (-1.16) (-1.25)
Adj. R2 0.039 0.039 0.041 Adj. R2 0.039 0.040 0.041

Ave. # obs 1,771 1,771 1,771 Ave. # obs 1,771 1,771 1,771
# Months 588 588 588 # Months 588 588 588
43
Table 11: Monthly Fama-MacBeth Regressions of Stock Returns: Measures Using Average
Dollar Trading Volume or Turnover
adjusted return as defined in the heading of Table 7. For the dependent variables, ln(VOLUME) is
the natural log of the dollar trading volume measure, defined as the average daily trading volume in
the previous year. Res. ln(A) is the residual from the monthly cross-sectional regression of ln(A) on
ln(VOLUME), where ln(A) is the natural log of the annual Amihud (2002) measure (A), defined as
the daily ratio of absolute return to dollar trading volume, averaged across all days in the previous
calendar year. The right panel is similar to the left panel except ln(TO) is the natural log of the
turnover measure, defined as the average daily turnover in the previous year. Res. ln(AT) is the
residual from the monthly cross-sectional regression of ln(AT) on ln(TO), where ln(AT) is the natural
log of the turnover-based Amihud (2002) measure (AT), defined as the annual average of the daily
ratio of absolute return to turnover. We also control for a number of firm characteristics. ln(ME) is
the natural log of market capitalization; B/M is the ratio of book value of equity to market value of
equity; Ret[-12,-2] is the cumulative return from month t-12 to month t-2, and Ret[-1] is the stock
return of month t-1. These control variables are defined in the heading of Table 7. We estimate a
cross-sectional regression in each month and then report the time-series means and t-statistics (in
parentheses). We also report the time-series average of the number of observations and adjusted R2
of the cross-sectional regressions. All the regressions include a constant which is not reported for
brevity. T-statistics are calculated using Newey-West robust standard errors with 6 lags. ***, **, and *
represent statistical significance at the 1%, 5%, and 10% levels, respectively.
Annual Monthly Annual Monthly
Measures Measures Measures Measures
(1) (2) (3) (4)
ln(VOLUME) -0.248*** -0.158*** ln(TO) -0.297*** -0.216***
(-4.82) (-3.65) (-5.86) (-5.09)
Res. ln(A) -0.129 -0.167*** Res. ln(AT) -0.102 -0.106*
(-1.45) (-2.74) (-1.08) (-1.69)
ln(ME) 0.186*** 0.091** ln(ME) -0.057** -0.067***
(4.09) (2.28) (-2.25) (-2.71)
B/M 0.007 0.026 B/M -0.000 0.023
(0.16) (0.62) (-0.01) (0.55)
Ret[-12,-2] 0.363** 0.477** Ret[-12,-2] 0.394** 0.468**
(2.00) (2.32) (2.00) (2.30)
Ret[-1] -7.182*** -6.902*** Ret[-1] -7.129*** -6.894***
(-13.78) (-13.15) (-13.69) (-13.18)
Adj. R2 0.036 0.034 Adj. R2 0.036 0.034

Ave. # obs 1,765 1,771 Ave. # obs 1,765 1,769
# Months 588 588 # Months 588 588
44
Table 12: Relations between the High-Frequency Price Impact Measure and Amihud
Measures
Panel A presents the time-series averages of the cross-sectional correlation coefficients between the
high-frequency price impact measure and the Amihud measures for NYSE/AMEX stocks from
1983 to 2011. We first calculate cross-sectional correlation coefficients each year, and then report
the time-series averages of the cross-sectional correlation coefficients. is the price impact measure
estimated using the five-minute return and trading volume for each firm-year. The five-minute
return and trading volume are summarized using the high-frequency transaction data from ISSM and
TAQ. For each firm-year, the price impact measure is estimated as the slope coefficient of the
regression: = + , where rn is the five-minute stock return calculated as the natural log
of the price change over the nth five-minute period. SVoln is the signed square-root dollar volume of
the nth period, and un is the error term. We require at least 100 valid observations for the regressions.

We calculate SVoln as =1 , where dvolk is the dollar volume of the kth trade in the
nth five-minute period, Kn is the number of trades in the nth period, and signk is the sign of the kth trade
assigned according to the Lee and Ready (1991) trading classification method or the tick test. A is
the Amihud (2002) measure, defined as the daily ratio of absolute return to dollar trading volume,
averaged across all days in a year. AT is the turnover-based Amihud (2002) measure, defined as the
annual average of the daily ratio of absolute return to turnover, where turnover is daily share volume
divided by the shares outstanding. A_C and AT_C are constructed as A and AT, respectively, but
the numerators of the ratios are 1 instead of absolute return. Res. A is the residual from the cross-
sectional regression of the A measure on the A_C measure. Res. AT is the residual from the cross-
sectional regression of the AT measure on the AT_C measure. To control for outliers, we winsorize
and the Amihud measures at the 1 and 99 percentage points in each cross-section. Panel B is
similar to Panel A except that the price impact measure and Amihud measures are constructed
monthly instead of annually. Panel C presents annual Fama-MacBeth regressions of the price impact
measure for NYSE/AMEX stocks from 1983 to 2011. The dependent variable is the natural log of
the annual price impact measure . In the left panel, the independent variables include the natural
logs of the contemporaneous annual measures including ln(A), ln(A_C), and Res. ln(A), which is the
residual from the annual cross-sectional regression of ln(A) on ln(A_C). The right panel is similar to
the left panel except that the Amihud measure is the turnover-based Amihud measure, ln(AT),
ln(AT_C), and Res. ln(AT), which is the residual from the annual cross-sectional regression of ln(AT)
on ln(AT_C). Panel D is similar to Panel C except that the price impact measure and Amihud
measures are constructed monthly instead of annually. To facilitate the comparison of coefficients,
we standardize the dependent and independent variables in each cross-section. T-statistics are based
on Newey-West robust standard errors with 6 lags. ***, **, and * represent statistical significance at the
1%, 5%, and 10% levels, respectively.
45
A A_C Res. A AT AT_C
Panel A: Correlations between Price Impact Measure and Amihud Measures
A 0.803
A_C 0.797 0.938
Res. A 0.161 0.343 0.000
AT 0.691 0.748 0.774 0.059
AT_C 0.378 0.393 0.514 -0.261 0.785
Res. AT 0.626 0.702 0.586 0.444 0.606 0.000
Panel B: Correlations between Price Impact Measure and Amihud Measures:
Monthly Measures
A 0.557
A_C 0.570 0.903
Res. A 0.162 0.425 0.000
AT 0.436 0.749 0.746 0.173
AT_C 0.177 0.401 0.549 -0.223 0.761
Res. AT 0.412 0.675 0.492 0.545 0.637 0.000
Panel C: Regressions of Price Impact Measure
Dep. Variable: ln() Dep. Variable: ln()
(1) (2) (3) (4) (5) (6)
ln(A) 0.957*** ln(AT) 0.680***
(126.44) (21.12)
ln(A_C) 0.928 *** 0.929 *** ln(AT_C) 0.563*** 0.566***
(119.84) (111.43) (34.58) (34.76)
Res. ln(A) 0.251 Res. ln(AT) 0.532***
(16.14) (22.58)
Adj. R2 0.899 0.847 0.912 0.646 0.423 0.706

Ave. # obs 1846 1846 1846 1846 1846 1846
# Years 29 29 29 29 29 29
Panel D: Regressions of Price Impact Measure: Monthly Measures
Dep. Variable: ln() Dep. Variable: ln()
(7) (8) (9) (10) (11) (12)
ln(A) 1.152*** ln(AT) 0.707***
(117.89) (106.94)
ln(A_C) 1.122*** 1.110 *** ln(AT_C) 0.482*** 0.539***
(155.04) (117.71) (58.78) (73.67)
Res. ln(A) 0.294 *** Res. ln(AT) 0.612***
(37.58) (64.35)
Adj. R2 0.859 0.793 0.865 0.462 0.22 0.517

Ave. # obs 1536 1536 1536 1536 1536 1536
# Months 358 358 358 358 358 358
46
Table 13: Monthly Fama-MacBeth Regressions of Stock Returns on the High-Frequency
Price Impact Measure and Amihud Measures: 1984-2012
Panel A presents monthly Fama-MacBeth regressions of stock returns for NYSE/AMEX stocks
from 1984 to 2012. The dependent variable is the monthly FF3-adjusted return. FF3-adjusted return
of month t is calculated based on the three-factor model in which the factor loadings are estimated
in the preceding sixty months [t-60,t-1] with at least 24 observations for each firm-level time-series
regression. The independent variables include the natural logs of the price impact measure and the
Amihud measures estimated in the previous calendar year. ln() is the natural log of the annual price
impact measure , which is estimated using five-minute return and trading volume summarized from
the high frequency ISSM and TAQ transaction data. For each firm-year, the price impact measure
is estimated as the slope coefficient of the regression: = + , where rn is the five-
minute stock return calculated as the natural log of the price change over the nth five-minute period.
SVoln is the signed square-root dollar volume of the nth period, and un is the error term. We require at

least 100 valid observations for the regressions. We calculate SVoln as =1 , where
th th
dvolk is the dollar volume of the k trade in the n five-minute period, Kn is the number of trades in
the nth period, and signk is the sign of the kth trade assigned according to the Lee and Ready (1991)
trading classification method or the tick test. ln(A_C) is the natural log of the A_C measure, which
is constructed as the annual average of the daily ratio of 1 to dollar trading volume. AT_C is
constructed as the annual average of the daily ratio of 1 to turnover, where turnover is share volume
divided by total shares outstanding. We also control for a number of firm characteristics. ln(ME) is
the natural log of market capitalization at the end of previous year. B/M is the book-to-market ratio
calculated as a firms book value divided by the firms market capitalization. For the regression of
month t, Ret[-12,-2] is the cumulative return from month t-12 to month t-2, and Ret[-1] is the stock
return of month t-1. We estimate a cross-sectional regression in each month and then report the
time-series means and t-statistics (in parentheses). We also report the time-series average of the
number of observations and adjusted R2 of the cross-sectional regressions. Panel B is similar to
Panel A except that the price impact measure and the Amihud measures are estimated monthly
instead of annually. In Panel B, returns of month t is regressed on price impact measure and Amihud
measures estimated in month t-2. All regressions include a constant which is not reported for
brevity. T-statistics are calculated using Newey-West robust standard errors with 6 lags. ***, **, and *
represent statistical significance at the 1%, 5%, and 10% levels, respectively.
47
Panel A: Regressions of Returns on Price Impact Measure
(1) (2) (3) (4) (5)
ln() 0.058 -0.112 -0.177
(0.41) (-0.68) (-1.10)
ln(A_C) 0.415*** 0.474***
(2.98) (2.88)
ln(AT_C) 0.232*** 0.272***
(4.63) (4.69)
ln(ME) -0.059 0.255 0.224 0.002 -0.127
(-0.52) (1.57) (1.45) (0.02) (-1.10)
B/M -0.026 0.001 -0.022 -0.01 -0.038
(-0.52) (0.03) (-0.44) (-0.23) (-0.77)
Ret[-12,-2] 0.088 0.078 0.078 0.081 0.083
(0.83) (0.78) (0.80) (0.76) (0.80)
Ret[-1] -0.758*** -0.773*** -0.764*** -0.777*** -0.772***
(-6.77) (-6.89) (-6.82) (-6.89) (-6.87)
Adj. R2 0.029 0.029 0.031 0.028 0.031

Ave. # obs 1667 1733 1667 1733 1667
# Months 348 348 348 348 348
Panel B: Regressions of Returns on Price Impact Measure: Monthly Measures
(1) (2) (3) (4) (5)
ln() -0.177* -0.435*** -0.405***
(-1.70) (-3.30) (-3.12)
ln(A_C) 0.346*** 0.757***
(2.92) (4.58)
ln(AT_C) 0.197*** 0.344***
(4.26) (4.79)
ln(ME) -0.103 0.192 0.256** -0.032 -0.241**
(-1.18) (1.40) (2.21) (-0.40) (-2.56)
B/M -0.054 0.001 -0.057 -0.002 -0.061
(-1.05) (0.02) (-1.11) (-0.06) (-1.18)
Ret[-12,-2] 0.066 0.147 0.124 0.125 0.070
(0.60) (1.35) (1.15) (1.17) (0.65)
Ret[-1] -0.615*** -0.741*** -0.621*** -0.748*** -0.635***
(-6.58) (-6.88) (-6.59) (-6.89) (-6.63)
Adj. R2 0.029 0.028 0.033 0.028 0.033
Ave. # obs 1390 1751 1390 1751 1390
# Months 357 357 357 357 357
48
Table 14: Abnormal Returns Sorted on Amihud Measures: Decomposing Returns of Firms
with Earnings Announcements: 1972-2012
This table presents abnormal returns in the earnings-announcement period and non-earnings
announcement-period sorted on the Amihud measures. At the beginning of each month from 1972
to 2012, stocks with earnings announcement in the month are sorted into quintile portfolios
according to the A measures of the previous year. A is the Amihud (2002) measure, defined as the
daily ratio of absolute return to dollar trading volume, averaged across all days in a year. Then for
each firm-month, we calculate buy-and-hold abnormal return in three-day window [-1,1]
surrounding earnings announcement, where daily abnormal return is calculated as daily raw return
minus value-weighted CRSP return. We also calculate monthly buy-and-hold returns for the days
other than the [-1,1] earnings announcement window. In Panel A, we first calculate monthly average
of BHAR [-1,1] for the quintile portfolios and report time-series average portfolio returns. The
differences between the top and bottom quintiles are also reported with associated t-statistics. We
then repeat the sorting using the A_C measure, the AT measure, and the AT_C measure. A_C is
constructed as A but the numerator of the ratio is 1 instead of absolute return. AT is the turnover-
based Amihud (2002) measure, defined as the annual average of the daily ratio of absolute return to
turnover. AT_C is constructed as AT but the numerator of the ratio is 1 instead of absolute return.
Panel B is similar to Panel A except that we report buy-and-hold abnormal returns in the non-
earnings-announcement period instead of BHAR. The t-statistics (in parentheses) are calculated
using Newey-West robust standard errors with 6 lags.
Liquid 2 3 4 Illiq. Illiq Liq t-stat
Panel A: BHAR [-1, 1] Sorted on Amihud Measures
Sorted on Annual Measures
Sorted on A 0.11 0.20 0.09 0.20 0.84 0.73 (7.27)
Sorted on A_C 0.12 0.15 0.04 0.22 0.89 0.77 (7.88)
Sorted on AT 0.08 0.12 0.14 0.32 0.78 0.70 (7.40)
Sorted on AT_C 0.05 0.12 0.19 0.39 0.67 0.62 (7.38)
Sorted on Monthly Measures
Sorted on A 0.11 0.15 0.10 0.25 0.70 0.59 (6.47)
Sorted on A_C 0.00 0.17 0.22 0.29 0.62 0.62 (7.36)
Sorted on AT 0.12 0.10 0.15 0.20 0.73 0.61 (6.61)
Sorted on AT_C -0.03 0.15 0.28 0.37 0.53 0.56 (6.44)
Panel B: BHAR for Non-Earnings-Announcement Days Sorted on Amihud Measures
Sorted on Annual Measures
Sorted on A 0.34 0.31 0.42 0.27 0.65 0.32 (1.49)
Sorted on A_C 0.34 0.34 0.38 0.38 0.54 0.20 (1.02)
Sorted on AT 0.34 0.40 0.27 0.35 0.62 0.28 (1.71)
Sorted on AT_C 0.40 0.39 0.41 0.36 0.44 0.04 (0.29)
Sorted on Monthly Measures
Sorted on A 0.33 0.43 0.45 0.27 0.37 0.04 (0.18)
Sorted on A_C 0.33 0.45 0.41 0.30 0.36 0.02 (0.13)
Sorted on AT 0.34 0.55 0.38 0.20 0.38 0.04 (0.27)
Sorted on AT_C 0.43 0.41 0.44 0.33 0.25 -0.17 (-1.20)
49

Why Is Amihind's Liquidity Measure Priced

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Why Is Amihind's Liquidity Measure Priced

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Price Impact or Trading Volume: Why is the Amihud (2002) Illiquidity Measure Priced?

higher expected return as predicted by conventional theory.

trading volume, which is illustrated by the construction of the measure:

To focus on the trading volume component of the Amihud measure, we construct a

measure with one:

the Amihud illiquidity measure.

component but not by its construct of return-to-volume ratio.

volume component drives the pricing of the Amihud (2002) measure.

We also conduct a multivariate analysis by estimating the firm-level Fama-MacBeth (1973)

sub-periods, and controlling for idiosyncratic return volatility.

TAQ transaction data.

the pricing of the trading volume component of the Amihud measure.

trading volume component) in the earnings announcement period and non-earnings-announcement

capturing price impact via its trading volume component.

correlations with expected returns.

I. Measure Construction and Sample Selection

The measures used in this paper are constructed as below:

A: the Amihud (2002) measure, defined by equation (1).

A_C: the constant Amihud measure corresponding to A, defined by equation (2).

shares outstanding. The other variables are as defined in equation (1).

AT_C: the constant turnover-based Amihud measure corresponding to AT

daily absolute returns over the estimation year.

constant measure corresponding to the square-root Amihud measure by replacing the

in year y, the period of our return analysis is from 1964 to 2012.

variation in the Amihud illiquidity measure.

are very similar to those for the annual measures.

Table 2, which reports the correlations for monthly measures.

attributable to its association with trading volume.

A. Decomposition of the Amihud (2002) Measure

and the firm size component as in equation (7):

and estimate regressions of stock returns on these components.

the Fama-French three-factor adjusted return (henceforth FF3-adjusted return) as dependent

variable. FF3-adjusted return of firm i in month t is defined as:

ritff 3 = (rit r ft ) ( itMKT MKTt + itSMB SMBt + itHML HMLt ) (8)

60 to t-1. 12 We require at least 24 observations in the estimation of factor loadings. We perform

momentum and short-term price reversal.

its association with trading volume.

SMB, HML) and the momentum factor (UMD).

on the pricing of the Amihud measure.

measure as residuals from monthly cross-sectional regressions of AT on AT_C. When we sort

explained entirely by its trading volume component.

explained by the IMLA_C factor.

trading volume component.

regressions of ln(A) on ln(A_C). The coefficient on ln(A_C) continues to be significantly positive,

intermediate-term returns, reflecting a short-term return reversal and intermediate-term momentum.

driving force for the pricing of the Amihud measure.

III. Robustness Tests

A. Robustness Tests Using Monthly Measures

drawn from using annual measures.

the negative half Amihud measure commands a return premium.

to their turnover components. 15

We further include the directional Amihud measures simultaneously in return regressions in

B. Robustness Test Using Sub-Periods

trading volume component.

measures are therefore further supported by the analysis of NASDAQ stocks.

D. Robustness Test Using Raw Returns

E. Robustness Test Controlling for Return Volatility

F. Robustness Test Using Trading Volume or Turnover Directly

findings hold when we directly examine dollar trading volume or turnover.

A. High-Frequency Price Impact Benchmark

coefficient of the following regression:

percentiles in each cross-section to control for outliers. 17

trading volume component, not its return-volume ratio.